5 Tips to Improve Your Forex Trading

Last updated 11/20/2009 9:07 AM ET (GMT -5) 13 Comments

Forex Trading involves high risks, with the potential for substantial losses and is not suitable for all persons. Past performance is not necessarily indicative of futures results.

Kathy Lien

Director of Currency Research, GFT

On this quiet trading day devoid of any market moving U.S. data, we take this opportunity to share some tips that we have to help you improve your forex trading. Regardless of whether you are learning to trade for the very first time or seasoned, we hope that you find these tips useful. Feel free to add your own tips in our comment section!

TIP #1 Buy High and Sell Higher

Believe it when they say that the trend is really your friend. When you trade currencies, you are trading the outlook of a country and typically the economy of a country will get progressively better or progressive worse and rarely will it be better one minute and worse the next. This is why trends are so dominant in the forex market. For example, take the performance of the Australian dollar against the U.S. dollar. In 2008, the Australian dollar fell for 5 months straight against the greenback in a move that shaved more than 35 percent off the value of the Aussie. However almost as quickly as the Aussie sold off in 2008, in 2009 it appreciated by approximately the same amount over the course of 9 months. Trends in currencies can last for weeks, months and in some cases, even years. Therefore by buying high and selling higher or shorting low to buy back lower, you put yourself on the side of the trend which should help to improve your trading. People who fight the tape on the other hand could be extremely frustrated if they try to do this with currencies.

TIP # 2 Entries and Exits are Equally Important

Ask a pilot what is more important – the takeoff or the landing and ask a surgeon whether it is more important to get the first incision or the sutures right and they will most likely tell you that both are important. Traders should have the same mentality when it comes to entries and exits. Unfortunately most new and even seasoned traders spend hours looking for trading strategies that give them the best possible entries. Exits however are usually relegated to nothing more than an afterthought. This type of behavior is one of the single biggest reasons why many people have difficulty making money from trading. In fact I am sure that everyone reading this article had the experience of watching their trades move favorably initially only to reverse violently and be stopped out. This is the central reason why exits are just as important as entries especially when you are trying to capture a big move. This is why it may be fruitful to employ the use of trailing stops because if you are aiming for a 5 percent move, the worst thing that could happen is for the trade to move 4 percent in your favor and then turn around. By using trailing stops, you can lock in profits along the way which is essential to maintaining a positive edge.

TIP # 3 Look Beyond 2:1 Risk Reward Ratios

Trading or investing 101 states that in order to profit in the long run, you have to maintain a 2 to 1 reward to risk ratio. This means that for every $1 that you risk, you should look to make at least $2. Unfortunately in the forex market, this may be difficult to achieve, particularly for short term traders. Let us consider a short trader who is looking to make 20 pips on a trade. If he was to maintain 2:1 risk / reward ratio, his stop would need to be 10 pips. However 10 pips is just little bit more than the spread for many currency pairs which means that the risk of being stopped out is very high. Alternatively if a trader knows that “support” is 50 pips away from the current price, then to maintain a 2:1 ratio, he would need to have a take profit of 100 pips. Given that 100 pips is typically the average high to low range of a currency pair, it may be difficult to make100 percent of an intraday move on a short term trade. A 1 to 1 risk reward ratio can also work as long as the strategy has an accuracy rate of 65 percent or greater which tends to be a bit more suitable for short trading. For example if you putting on a momentum trade after an economic release, your target and your stop may only be 20 pips because you are looking for immediate continuation. However in order for this to yield net positive results, you would to make sure that you are right much more often than you are wrong.

TIP # 4 Techncials and Fundamentals Both Matter

Many currency traders focus primary on chart reading because it is simple and straightforward and they believe that everything is factored into the price. This may be true to some extent and I believe that technical analysis is useful, particularly on a short basis, trading solely on charts is akin to walking around with blinders on. Fundamentals not only determine the current trend in exchange rates, but for any major technical trend to change, fundamentals need to change as well. On a more granular level, day to day economic data can also alter the short term trend in a currency pair or trigger a breakout. So it is extremely important for people employing technical analysis to be aware of economic data that will be released so that you can properly assess the risks to your trade.

TIP # 5 Do Your Homework

Finally, it is important to do your due diligence not only in terms of the trading strategies that you learn but also in terms of the brokers that you choose to trade with. One of the biggest benefits of the foreign exchange market is the ability to test drive strategies on virtual demo accounts. Make sure you can make money on the strategies while trading on a demo or a small sized account before diving head in. In terms of brokers, make sure that you are test out a number of brokers before you commit to one of them so that you can compare their services and pricing to see who really has the highest integrity.

Comments (13)

Argunes

November 20, 2009 at 09:41 AM ET

I think you should consider disabling comment option, latelty I'm reading only irrational and absurd coments which I believe makes this great web site looks like play ground of amateurs.

Wanna Be

November 20, 2009 at 09:49 AM ET

Come on now have some fun now and then. I am just kidding around.

FXDragon

November 21, 2009 at 04:30 AM ET

Everyone starts off as amateurs. Its a great chance being able to speak to professionals here. I wish we could comment on the tech anlysis report section also to discuss trades.

Long live fx360!

jet

November 22, 2009 at 06:31 PM ET

if toy're such a serious pro why do you read this site for ideas anyway lighten us

Papageno

November 23, 2009 at 11:26 AM ET

I agree with jet. If some of the people here are as clever as they suggest they are, one would have expected to find them busy running empires or sunning themselves in the Bahamas rather than posting messages on fx360

pipster

November 23, 2009 at 09:21 AM ET

Excellent tips, especially number 4. I'm glad someone on this site acknowledges the importance of fundamentals. Although I understand this site is primarly driven by technical experts, I've noticed in this market fundamentals have stopped out many technical trades, more than in the past. Although my trades are driven by technical analysis, fundamentals can influence my entry/exit strategies. You can say I'm fundamentally a technical trader at the moment.

cbrad

November 20, 2009 at 12:56 PM ET

Can someone tell me why fx360 did not see the 2HR Chart absolute perfect butterfly's on the eurgbp AND gbpchf this week? I captured 350 pips total on just those 2 trades. Im long the gbp, which scares me, on gartleys that formed on the back of those trades this morning, but I dont get to pick and chose winners and losers. But there are 4 trades not published and I just wonder why. Thanks.

cbrad

November 21, 2009 at 01:03 PM ET

arapahoe, i started in january this year with Peter Bain's Beginners Course. I later connected with a local full time trader friend of mine who gave me additional resources. The book "Trade What You See" by Larry P helped me with Gartleys and Butterfly's tremendously, and "The Disciplined Trader" by Mark Douglas is helping me with the psychological part of trading which is the bigger challenge for me.

arapahoe

November 21, 2009 at 10:09 AM ET

cbrad,

where did you go to learn how to trade the FX? How did you learn your system?

Justin

November 26, 2009 at 01:48 PM ET

To add to tip 3; scaling out of position is a great way to take profits. For example take 1/3 profits at 1:1 level (stop loss = target 1), take another 1/3 at 1.5:1 and final third at 2:1. Also you can mix it up according to how aggressive you are. Target 1 can be half the stop loss (0.5:1) for a conservative view or twice the stop loss (2:1) for an aggressive view. Each situation will be different depending if you are with the overall trend or not. Also your confidence levels will play a part in which exit strategy to employ. This has helped my trading a lot.

Wanna Be

November 20, 2009 at 09:33 AM ET

I think the best tip is to just flip a coin.

dnsloan

November 20, 2009 at 12:06 PM ET

One mentor of mine, a full-time trader for many years, noted that you could flip a coin to determine direction in forex and still be profitable. It is all in the trade and money management...

fx-naija

November 20, 2009 at 05:37 PM ET

lol, that makes u a gambler! rofl

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.